Winery Licensing Options for the Colorado Winegrape Growers

Transcription

1 Winery Licensing Options for the Colorado Winegrape Growers April 4, 2006 The Rocky Mountain Association of Vintners and Viticulturalists and The Western Colorado Business Development Corporation requested that Compliance Service of America provide this report on the various options for winery licensing that would create greater opportunities for winegrape growers to turn their crop into wine. Questions or comments about this report can be directed to Alex Heckathorn at or by at Additional materials and articles on these topics are available in CSA s article library at

2 Introduction I attended a national alcoholic beverage industry conference in Colorado last June. Our host made sure that Colorado wines were served, and while the servers were tentative in offering those local wines, many of my colleagues from the major wine regions gladly tasted those wines. What was remarkable was that these professionals, who have served the wine industry for decades, were sincerely interested in the state of the art of Colorado s burgeoning wine industry. For them it was not whether the wine was great, they had seen many wine regions evolve and take years to achieve excellence. Better than anyone they understood that every region could develop its own unique contribution to the world of wine. Colorado wine grape growers have a crucial role and opportunity to further the wine industry in your state. At present, Colorado ranks tenth in the nation for wineries, trailing the eighth and ninth states by a small margin. Growers are the natural sparkplug and boosters of the industry. In this report we make several recommendations that could transform the Colorado wine grape industry and those who follow will thank you for your vision and foresight. Colorado s wine grape industry is being recognized and is beginning to flourish. 1 To continue to grow, more wine grapes will need to be grown in Colorado. Wine grapes, like any agricultural product, need to be processed in order to become a viable market commodity and to provide growers with the greatest return on their crop. The Western Slope wine grape growers see the need for additional options for the production of wine from their crops. The production of wine is a highly regulated business. Permits and licenses from both the Federal government and the Liquor Enforcement Division of the Colorado Department of Revenue (LED) are required to engage in the production of wine in Colorado. Others businesses involved in the bottling or sales of bulk or bottled wine must also hold licenses. The privileges and restrictions of these various licenses have a dramatic effect on building a vibrant wine industry in a particular state. States like California, Oregon, Washington and New York have licenses and license privileges which have supported the growth of their wine grape industries. A recent report for the Oregon Wine Board found that the direct 1 Colorado s vineyards and wineries were featured in the September 2005 issue of Wine Business Monthly and the October 2005 issue of Wines & Vines. Both articles stated that improvements in quality were needed, but also noted that world class wines are being made in Colorado. Winery Licensing Options for the Colorado Winegrape Growers -1-

3 economic impact of the state s wine industry is $801 million on that state s economy. 2 CSA has been asked to provide this report on the various licensing and compliance options which could be employed in Colorado to increase production and marketing channels for Colorado grown wine grapes. As a nationwide regulatory consulting firm to the wine industry, we have seen how various compliance models have helped the wine industry grow in other states. Some of our recommendations do not require any changes in existing laws or regulations whereas other recommendations will require changes in laws, regulations or interpretation of the laws or regulations. Executive Summary This report examines the initial idea of using a cooperative winery to further your goals of having additional channels for the production and marketing of wine. The co-op model has a number of significant limitations, both practically and legally. Other types of co-ops for the sharing of equipment have no regulatory implications and are possible immediately. Having seen the positive effects in other states of a grower s license and alternating proprietorship wineries, we analyze how those options could meet your objectives and make a recommendation that you propose legislation that would add those two privileges to Colorado s wine licensing system. With these additions, a cooperative winery, acting as host winery or as production facility for grower-licensees, becomes a viable option. However, we do not recommend these two options only to enable a cooperative winery. The grower s license and the alternating proprietorship winery are two vehicles that have substantial independent merit and an established track record of developing the wine grape industry in other states and would give Colorado s wine grape industry the tools it needs to grow. Licensing in the Wine Industry Regulatory compliance and licensing is, by its nature, a technical subject, and to put our recommendations in context it is appropriate to provide some background on the basic licensing schemes used in the wine industry. This section will provide this overview. 2 Tims, Dana, More green in grapes, The Oregonian, Feb. 1, 2006 Winery Licensing Options for the Colorado Winegrape Growers -2-

4 Traditional Winery Model A winery is a production or manufacturing facility which converts juice from fruits into wine. To operate, a winery must obtain permits from the Alcohol and Tobacco Tax and Trade Bureau (TTB) of the Department of the Treasury and a license from the state licensing authority. States often have a variety of winery licenses. For example, Colorado has a manufacturer s license for wines (winery license), a limited winery license and a vintner s restaurant license. The three have different privileges and restrictions. New York has a similar scheme, with a winery license, a farm winery license and a special farm winery license each with different privileges and restrictions. Wineries often have many privileges in addition to manufacturing wine. Those privileges include having a sales room where wine can be tasted and sold, and allowing wine to be sold directly to retailers or consumers. These privileges are extremely valuable, especially to small wineries. Wineries may make wine under their own brand names and sell their wine for their own account. They may also make wine for other licensees such other wineries, distributors or wholesalers, retailers, or growers. These buyers of large quantities are commonly called custom crush clients or customers. A winery may grow its own grapes or buy grapes from growers or both. Growers can enter into long term contracts with wineries or sell their grapes on the spot market. In an ideal world all the wine grapes that are grown get produced into wine. But, if there is a lack of production facilities, or the grape varietal is not popular or is unknown, the grower may not find a ready market for his crop, which ends up rotting in the vineyard before it even has a chance to become wine. If production facilities are scarce, growers do not have security and are not encouraged to the plant new vineyards. And without grapes, it s hard to create a wine industry. But, if the grower can readily convert his grapes to wine a far less perishable commodity there are considerably more sales opportunities and less risk. It seems that the simple solution is for a grower to build his own winery, but building a winery requires a substantial investment. The Alternating Winery In answer to the high cost of building a stand-alone winery, alternating wineries were developed so several wineries could share the winery premises and equipment and share the costs of production. While the federal regulations had provided for alternation for many years, it was not until the early 1990 s that the Winery Licensing Options for the Colorado Winegrape Growers -3-

5 first alternating proprietorship winery was approved in California. The founder of that first alternating winery stated the reasons for doing so succinctly: When you look at the economics, there s no way for the little guys to compete against the big fellows unless you develop an innovative way for them to have production cost efficiency that wouldn t be available to them as a single producer in their own premise. Since then numerous alternating wineries have been licensed in California, Oregon, Washington and New York. Breweries are also permitted to have alternating proprietorship breweries and they have been approved in several states. The Business Practice Enforcement Book of the California ABC describes the alternating proprietorship winery as follows: An alternating proprietor (AP) arrangement is a small winery operation located within an existing winery facility (commonly referred to as the host winery.) The AP uses the facilities and equipment of the host winery to make its own wine. Typically, the host winery assists the AP in producing its wine and the AP usually stores his/her wine on the premises of the host winery, but it may be transferred to another bonded premises. Both the host winery and the alternating proprietor are wineries and hold their own state winery licenses. They simply share the same facilities, equipment and staff. Normally each winery has its own dedicated licensed premises in the winery facility. By alternating the use of winery space and equipment with a host winery, a grape grower can become a winery with just a few tanks or barrels. Generally host wineries have been larger producers willing to share with small wineries, but over the last few years we have seen a number of commonly owned host wineries established. Often several growers or winemakers come together and pool their resources to build a winery facility designed to be shared by all of them, as alternating proprietors. 3 These commonly owned host wineries have used traditional business structures, but there is no reason a host winery could not be established by a cooperative. We will discuss the cooperative approach in some detail later in this report. 3 The Carlton Winemakers Studio in Carlton, Oregon is the best known example of this new model. The Studio, which was built in 2002, is a multi-winery facility that allows up to ten different winemakers to create their own vintages all the way from grape crushing to the bottling. See: Winery Licensing Options for the Colorado Winegrape Growers -4-

6 Each winery, whether the host or an alternator, is a winery and has all of the privileges of a stand-alone winery; an important distinction to remember as we continue to look at other licenses used in the wine industry. Brand Builders Growers and Wholesalers The other major players in the wine industry are the group we call brand builders. They are the custom crush customers of wineries who have wines made for them. They are grape growers, bulk wine artisans commonly called negociants, brand builders and marketers who are often established wholesalers, and serious home wine makers with dreams of their own. Although this brand-builder segment of the industry is small in number, modest in finances, and entirely without solidarity such as their own trade organization, their impact on the wine business is significant. The brand-builder style of operation provides a home for excess grapes and wine, a use for excess production or bottling capacity, and adds diversity and variety for consumers. TTB treats all of these brand builders as Wholesale Liquor Dealers and requires them to hold a Basic Permit. The states have two basic licensing schemes for these brand builders: a grower s license or a wholesaler license. Selling grapes requires no license, but since the sale of wine is regulated, a license is required to sell wine. Growers in California, Washington and Oregon can legally have their grapes custom crushed and sell the resulting wine to wineries, or even develop their own brand and sell to consumers. The grower s permit in California and Washington allows the grower to sell bulk wine to other wineries only, but the Oregon grower s license provides nearly all the privileges of a winery, except the right to produce wine. We will discuss this license in more detail later. For those who do not grow grapes or need more grapes than they can grow, the major wine states allow brand builders to be licensed as wholesalers. These brand builders are important to wine grape growers because they buy excess bulk wines and often are some of the best marketers in the business. California brand builders hold a wholesale license ( Type 17 ) or an importers general license ( Type 10 ). With these licenses a grower can buy other wine to blend with their own or bottle it separately if that seems advisable. The California wholesale and importer licenses do not allow sales wine to consumers, but California does permit wholesalers to obtain a restricted retail license for mail order sales. Oregon, Washington and New York also allow brand builders to be licensed as wholesalers, but none of them allow a wholesaler to hold any type of retail license which would allow sales to consumers. Winery Licensing Options for the Colorado Winegrape Growers -5-

7 Review of the Colorado Licensing Scheme for Wine The Winery License Colorado can license a wine producer under three separate statutes. First is the manufacturer s license for wines (winery license) provided for in Subdivisions 1, 2 and 3 of this section establish the basic privileges of a winery, which include the following: To manufacture wine with fruit from any source and in any quantity, To sell wines to consumers with an added wholesaler s license, To sell wines to retailers without a wholesaler s license, To export wine to other states and foreign countries, To allow tasting and sales of wines of its own production and wines made by other Colorado wineries at the winery and one other off-site sales room, and To sell food and other products at the winery premises. The Limited Winery License The second Colorado winery license is the limited winery license provided for in The basic privileges granted by this section are: To manufacture up to 100,000 gallons of wine from fruit from any source, To sell wines of its own production at wholesale, retail or to consumers, including shipping by common carrier to customers who have visited the winery, To export wine to other states and foreign countries, To allow tasting and sales of wines of its own production and wines made by other Colorado wineries at the winery and up to five (5) other off-site sales rooms, and To sell food and other products at the winery premises. The limited winery license is exemplary in the privileges it offers and forms the basis of many of the recommendations made in this report. The Vintner s Restaurant License The third statute created the vintner s restaurant license, which is very similar to Colorado s brewpub statute and is essentially a retail license for a restaurant with limited privileges to produce and sell wine. Given its specialized application, we have not considered it for this report. Winery Licensing Options for the Colorado Winegrape Growers -6-

8 The Wine Wholesaler License As discussed above, growers in other states have used the wholesale license to market wines made from their grapes. Colorado s wholesaler s license is generous in its privileges, but it also has several important restrictions. The wholesaler s license allows the wholesaler to have wine custom crushed and bottled under a brand name owned by the wholesaler. It also permits the wholesaler to purchase and sell bulk wine. A wholesaler may purchase bulk wine from other states and have it imported by a licensed Colorado importer. When exercising these later privileges, the wholesaler normally uses a cooperating winery to handle, store and bottle the bulk wine. Wholesalers can sell wine only to other wholesalers or retailers. But wine wholesalers in Colorado may not sell to consumers, nor may they hold any type of interest in a retail license. Wine wholesalers cannot operate tasting or sales rooms. The wholesaler law also prohibits wholesalers from holding any financial interest in a manufacturer or importer, which means a grower who was a member of a cooperative winery could not obtain a wholesaler s license. Analysis and Recommendations A Cooperative Winery Agricultural cooperatives allow growers to combine their efforts to process and market their crops. However, under present Colorado law, the cooperative is a very limited vehicle for growth. First, we will explain why and then offer some recommendations that would make it viable possibility. Cooperatives have been a traditional means of processing and marketing agricultural products and it would be tempting to think that a cooperative could build and operate as a single winery selling its members wines. Generally, agricultural cooperatives dictate to their members what will be grown, how it will be processed and how it will be marketed. The co-op receives all the proceeds from sales, which it divides with its members. Decisions are made collectively and there is a shared destiny. But wine is a more unique product than oranges, almonds or cheese. To be competitive in the marketplace of wine, uniqueness and diversity are essential. At the same time the vision and level of skill of new vintners varies dramatically. One member of a co-op may make very marketable wines immediately, but another may make wines that will need years to become accepted in the marketplace. Small wine producers need all the privileges they can have to make and market their unique wines. For these reasons the traditional cooperative is rarely found in the wine industry. Winery Licensing Options for the Colorado Winegrape Growers -7-

9 Under present Colorado law, there is no reason a winery could not be cooperatively owned, but a co-op winery could not return the wine to each grower-member unless the member was licensed to engage in the alcoholic beverage business. Membership in the cooperative would not confer any privileges upon the grower-members to sell the wine made on their behalf. To be able to acquire the wine from the winery and re-sell it, the member would be required to hold his or her own license. Under current Colorado law the only license a member could hold would be a winery or limited winery license, which would require the grower-member to have its own wine production facility which is exactly opposite of the goal of having a single, shared winery facility for which the co-op was created. 4 A grower-member could not hold a wholesale or retail license since the tied house laws prohibit someone with a financial interest in winery from holding either of those types of licenses. Even if a grower-member could hold a wine wholesaler s license, Colorado still does allow a wine wholesaler to have a sales room for consumers to taste and buy the wine. 5 For these reasons, under present Colorado law, the co-op winery does not achieve the goal of having good options for the making and marketing of wine. We will discuss two recommendations for additions to Colorado s licensing scheme the grower s license and the alternating proprietorship winery which would make the cooperative winery a more viable option. However, our recommendations that Colorado provide for a grower s license and alternating proprietorship wineries are not exclusively to enable a cooperative winery. They have much broader privileges which would allow for a more robust wine grape industry regardless of whether a cooperative winery is ever established. 4 It is possible for each grower-member to have its own limited winery license located at his or her own separate facility and be a member of the co-op winery. As long as the grower-member actually produced at its own winery facility, the grower-member could have the co-op handle the bulk of the grower-member s production. Wine could be transferred between the facilities in a bond-to-bond transfer; however, such transfer may mean the loss of estate bottling labeling claims. To use Estate Bottled on a label requires that 100 percent of the wine came from grapes grown on land owned or controlled by the winery (including grapes grown by members of the co-op winery), which vineyards must be located in an approved viticultural area and the winery must crush and ferment the grapes, finish, age, process and bottle the wine on their premises. The better solution is an alternating winery as will be discussed below. 5 A co-op winery could establish a remote sales room at several of its member s vineyards to sell wine made from the grower s grapes and other Colorado wines, but the structure of the business and division of revenues is still a complex consideration. Winery Licensing Options for the Colorado Winegrape Growers -8-

10 The Grower s License We recommend that the Colorado wine grape growers propose legislation to adopt a grower s license similar to the grower s license existing in Oregon. The Oregon grower s license provides nearly all the privileges of a winery, except the right to produce wine. The Grower s Sales Privilege License permits wholesale sales of bulk or bottled wine to licensed wholesalers and retailers, retail sales of bottled wine and wine by the glass to consumers, tasting, and special events privileges. The license can be issued to any location where the grower has a place of business and a licensed grower can add up to two additional licensed locations to their license where they can exercise all of the privileges, such as tasting and sales rooms. These privileges are similar to the Colorado Limited Winery license, without the privilege of production. A copy of the Oregon statute is attached as Attachment A. The grower s license has the unique quality of encouraging the cultivation of Colorado fruit for wine. Since the privilege only extends to growers who have actually grown their fruit in Colorado, it promotes not only Colorado wines, but also Colorado agriculture. In light of the recent removal of the requirement to use Colorado raised fruit from the limited winery license, this license type is a means of supporting Colorado agriculture. Currently, Oregon has 88 grower s sales privilege licensees 6 and has only 230 unique bonded wineries. 7 As noted by one of Oregon s pioneering vintners, Jim Bernau: In less than 35 years, [the wine] industry has gone from being a dream and a hobby to one of Oregon s more significant agriculturally-based businesses. 8 The grower s license would also help existing Colorado wineries by increasing the customers for their production services. If growers have the privilege of marketing wines made for them by a winery, the winery has built in customer the grower. According to some reports there are adequate wine production facilities in Colorado to process all of the wine grapes grown in Colorado. However, Colorado wineries may not have enough market share to sell all the wine that they could make from Colorado grown grapes. While existing wineries will buy grapes for their established products, the winery may not be willing to take the risk on a new grape variety or a new type of wine. To create a bigger market for Colorado wine 6 Source: Oregon Liquor Control Commission; 2/8/06. 7 Source: Wine Business Monthly, Feb. 2006, p Tims, Dana, More green in grapes, The Oregonian, Feb. 1, 2006 Winery Licensing Options for the Colorado Winegrape Growers -9-

11 grapes, there needs to be a greater diversity in both the wines made and the efforts to market those wines. It is a classic win-win. The winery can operate at fuller capacity while shifting the financial burden of growing the grapes and marketing the wine to the grower. In exchange, the growers have the opportunity to showcase their unique terrior and vision and use their passion and pride to market wines made with their grapes. One of the primary ways small wineries garner market share is by having tasting or sales rooms to showcase their wines. History has also shown that the more tasting or salesrooms the more tourists will visit an emerging wine region. And not only tourists but also the wine elite and wine press will come if there are a sufficient number of destinations. And with each taste poured, the area establishes a reputation as a serious wine-growing region. The tasting and sales rooms play an important role in the development of that reputation. Under current Colorado law, a grower who is an aspiring vintner must build a stand-alone winery to have a sales room, with the attendant costs. Under a grower s license, the grower can build his own sales room without incurring the cost of the winery equipment and facilities. In addition, wineries often need access to a robust infrastructure such as municipal water and sewer systems, utilities, transportation and warehousing. These needs often push wineries into industrial parks. But, such locations do not conduce to the ideal agricultural tourist experience. A tourist may be willing to visit a brewery in a city, but tourists expect to find the wine tasting room in a viticultural setting. Indeed, the close correlation between where the fruit is grown and the nature and quality of the wine is indelibly established for wine. For these reasons, the grower s vineyards are an ideal location for a grower s sales rooms, while wineries could be located where services are available. While the grower s license has its advantages, some restrictions do still apply. Under federal labeling regulations, the wine from the grower s grapes cannot be labeled as grown, produced and bottled by [grower s brand or trade name] because the bottling winery did not grow the grapes the grower did. Any claims made on the label must be true for the bottling winery. For the same reason, the wines made for a grower cannot be labeled as estate bottled. However, a grower may have his or her own brand and bottling trade names, and the winery can Winery Licensing Options for the Colorado Winegrape Growers -10-

12 label the wine as produced and bottled by [grower s brand or trade name] by adding the name to the winery s permit. 9 Under the Oregon model, ALL of the grapes or fruit used to make wine or cider must be grown in Oregon under the control of the licensee. Oregon s definition of under the control is satisfied if the grower-licensee has the right to perform or does actually perform all the acts common to viticulture under a lease or agreement of at least three years duration. 10 But should a grower become an excellent vintner and wants to blend wine made from his own grapes with wine made from grapes grown by others, he cannot do so with a grower s license. This limits the amount and types of wine the grower can offer to what he can grow. Oregon also will not issue a grower s license to someone who holds a winery license in another state. The grower s license is classified as a manufacturer s license, subject to the same tied house restrictions as other manufacturer s licensees. These restrictions prohibit a licensed grower from holding an interest in wholesale and retail licenses. Vineyard owners who are connected with a wine or liquor store, restaurant, hotel, or other retail-licensed establishment may not be qualified to hold a grower s license. If Colorado was to adopt the grower s license patterned on the Oregon law, the cooperative winery becomes more viable. The grower-member who holds a grower s license can contract with the cooperative to make wine from the grower s grapes and then re-acquire the bottled wine from the cooperative to market and sell it. The grower could have a tasting-sales room and sell directly to wholesalers, retailers and consumers. Since the grower s license is in the same tier as a manufacturer s license for tied house purposes, a grower licensee would be allowed to have a financial interest in the cooperative winery. While the grower s license is considered to be a manufacturer s license for tied house considerations, a grower licensee obtains a TTB Basic Permit as a wholesale liquor dealer and not as a winery. This distinction becomes important because only wineries are entitled to obtain direct shipping permits allowing the direct shipment of wine to consumers. Most all of the states that issue such permits would not issue them to a grower licensee. 9 Growers cannot use a bottling trade name that contains the word winery but a grower can use the words, cellar and/or vineyards in the grower s trade name. For more information on the rules for the use of trade and brand names in the wine industry, see: The Rules of the Winery Name Game and The Marketing Power of Multiple Personalities available in the article library at 10 Even though this definition of viticultural control mirrors the federal estate bottling regulations, the wine still cannot be labeled as estate bottled for the reasons, explained above. Winery Licensing Options for the Colorado Winegrape Growers -11-

13 But still, as the wine industry grows in Colorado, the grower s license itself will become too limiting especially for grower-vintner who want to use the grapes grown by others, or make or blend wines made from grapes grown in other regions. 11 This leads to our second recommendation that a way should be found to permit alternating proprietorship wineries to exist in Colorado. An alternating proprietorship winery is also an ideal way to set up a cooperative winery arrangement. The Alternating Proprietorship Winery Alternating proprietorship wineries are now common in California, Oregon, Washington and New York. They are the perfect vehicle for small producers to come together to build and operate a wine production facility, while allowing each producer to have total control over their winemaking and the complete privileges of a winery to market and sell their wine. The Alcohol and Tobacco Tax and Trade Bureau (TTB) described these facilities in its 2003 Industry Circular (I/C ) as follows: An alternating proprietorship is a term we use to describe an arrangement where two or more persons take turns using the physical premises of a winemaking facility. In most situations, the proprietor of an existing bonded wine premises (the host proprietor) agrees to rent space and equipment to a new ( tenant ) proprietor. This allows existing wineries to use excess capacity and gives new entrants to the wine business an opportunity to begin on a small scale without investing in equipment. The tenant winery, or alternating proprietor, is a separate winery in every sense of the word it is not a virtual winery. The alternating proprietor must exercise control over its winemaking process and act in every way as an independent producer. Although alternators share space and equipment with the host winery, and almost always rely on the host s cellar workers to perform wine movements, each winery must ferment wine in their own premises each year, maintain separate records of all winery operations, and accept full responsibility for winemaking decisions, standards, and results. An alternating proprietorship 11 As noted in the Wine Business Monthly article, One of the most important lessons for winemakers in the state to learn is that quality concerns may force them to move away from single-vineyard, single-varietals wines. It s just like French Bordeaux: We make very good single varietals, but sometimes you can improve on a single varietal by doing some blending. And it might not be blending different varietals it could be blending the same varietals from Mesa County with some Delta County, said Horst Caspari. Winery Licensing Options for the Colorado Winegrape Growers -12-

14 arrangement is a collaboration of independent wineries, each with separate records and responsibility for its own winemaking practices. While accepted by TTB and other states, Colorado has not licensed an alternating proprietorship winery because the issues involving the licensed premises of each winery. In Colorado, there is strong interpretation of the statutory provisions relating to licensed premises which holds that any licensee must exercise complete and exclusive control over its licensed premises at all times and must have the right to occupy the premises for the duration of its license term. The two most relevant Colorado statutes relating to the licensed premises are as follows: Definitions. As used in this article and article 46 of this title, unless the context otherwise requires: (14) Licensed premises means the premises specified in an application for a license under this article which are owned or in possession of the licensee within which such licensee is authorized to sell, dispense, or serve malt, vinous, or spirituous liquors in accordance with the provisions of this article Licensing in general. (3) (b) At all times a licensee shall possess and maintain possession of the premises or optional premises for which the license is issued by ownership, lease, rental, or other arrangement for possession of such premises. In an alternating proprietorship winery, the winery licensees alternate the use of tanks and equipment in the production of their own wine and share the winery building. Federal regulations provide that either the host, or one of the alternators, may have exclusive control of a portion of the facility (such a the bottling line or a tank) for their winemaking activities for a flexible period of time, but not less than 24 hours. All alternating tanks and any other alternating areas must be readily identified by use of placards showing its bonded winery registry number (BW#) when controlled by the alternator. When an alternator is finished using that portion of the premises, it reverts back to the host winery. This alternation of the premises initially confounded regulators in California, but since the federal regulations allowed it, the California ABC found a way to interpret the licensed premises to accommodate this system. Initially, and still a common practice even today, the alternators have a permanent area one that is continually controlled by the alternator and not shared with the host. This can be a separate room, a fenced area, or even a tank (which is considered a closed space and therefore can be designated as a separate premise). A suite or unit number at Winery Licensing Options for the Colorado Winegrape Growers -13-

15 the winery s street address is used to designate these unique and discrete premises of the tenant wineries. Both the host winery and the alternators must file detailed premise descriptions and alternation plans as part of their TTB application for a permit to establish a bonded wine premises. TTB has stated that alternating proprietorships are conducted under an approved alternation plan that describes the area to be used by each proprietor when that proprietor is active. The host proprietor must not change the portion of the premises assigned to the tenant proprietor on an approved alternation plan without notice to the tenant proprietor and the Chief, NRC [National Revenue Center of TTB]. 12 In California, both the host winery and the alternating proprietor provide a detailed diagram to the California ABC. We have enclosed a copy of the description attached to an approved TTB application and the California ABC diagram forms for an alternating winery in California as Attachments B and C. We have also reproduced the section on alternating proprietorship wineries from the Business Practice Enforcement Book of the California ABC in Attachment D. The host and tenant winery also enter into formal written agreement(s) governing their relationship which are reviewed by the regulators. The agreement(s) provide for the lease or sublease of space by the tenant winery and shared use of equipment and services by each winery. To ensure access to both premises, both the host and all the alternating proprietors agree in writing that regulators can cross each other s premises at any time for inspections. Since the statutory provisions defining the licensed premises are different in Colorado than the other states that have permitted alternating proprietor wineries, we recommend that the Colorado wine grape growers request the Colorado legislature to add a new subsection to to define the licensed premises for manufacturers and limited wineries as follows: The licensed premises of a manufacturer and/or limited winery licensee may consist of a defined area within a building, which area is under the exclusive possession and control of the licensee by ownership, lease, rental, or other arrangement for possession of such premises and that such area may be expanded or curtailed in accordance with the Federal regulations for the alternation of proprietors and premises, notwithstanding that another manufacturer or limited winery licensee is also licensed at the premises. 12 TTB Industry Circular , December Winery Licensing Options for the Colorado Winegrape Growers -14-

16 The federal regulations for the alternation of premises and proprietors of a winery are contained in section 27 CFR and , and are attached as Attachment E. Once this issue involving the definition of the licensed premises is resolved satisfactorily, the Colorado existing winery licensing scheme works excellently. The host winery could either be a winery or limited winery licensee and the alternators or tenant wineries are likely to be licensed with the limited winery license. The host winery could be owned and operated by a cooperative and those growers who wished to have the full privileges of a Colorado winery or limited winery could become alternating proprietors at the host facility. With the full compliment of winery privileges, the alternating proprietor winery can make wine from any source, sell the wine to the widest range of customers and open sales rooms offering both its own wines and wines of other Colorado wineries. The host facility could also have a tasting or sales room offering all of the wines made at the facility. The number of privileges and the flexibility granted by being a winery or limited winery licensee is essential for the growth of Colorado s wine grape industry. TTB acknowledged the value of the state winery privileges as one the primary reasons for the alternating proprietorship wineries in its Industry Circular, where it said: TTB recognizes that alternating proprietor arrangements may be undertaken for many reasons. For instance, a tenant proprietor may qualify as a bonded wine premises proprietor to obtain privileges under State law that are not available to wholesalers. As a result, a qualified alternating proprietor may or may not be a producer eligible for the small domestic producers wine tax credit. This credit was intended to encourage small new businesses to enter the wine industry. 13 The small producer tax credit is also one of the driving forces for alternating proprietorship wineries. Each independent producer of wine is entitled to a reduced excise tax rate of $0.17 per gallon on the first 100,000 gallons of wine it produces. The full federal excise tax rate is $1.07 per gallon. As the host winery and each tenant winery is a separate winery, they are each entitled to produce 100,000 gallons at the lowest tax rate. In contrast, a large co-op winery (that did not have alternating proprietors) would be a larger producer and pay federal 13 TTB, Industry Circular , December Winery Licensing Options for the Colorado Winegrape Growers -15-

17 excise taxes at a higher tax rate, which would affect the cost of wine produced for growers who held a grower s license. While this gallonage may seem large today, it will seem small in a few years. 14 The value of shared winery facilities is tremendous to an emerging wine region. Sharing the cost of equipment such as presses, de-stemmers, tanks, refrigeration units, barrel racks, forklifts, bottling lines, pumps, and filters means that each winemaker has better equipment available to make better wine. Shared facilities can afford to maintain a staff that can assist winemakers with their cellar movements and operations. Shared office staff can help keep accurate records and develop compliance expertise. In general such facilities support professionalism and better winemaking practices by virtue of the support and collaboration which occurs naturally. Another advantage of the alternating winery is that the right to use estate bottled on a label can be preserved by ensuring the wine always stays on the bonded premises of the alternating winery. Also a grower, who is also an alternating winery, can proudly claim on the label that the wine was grown, produced and bottled by the grower since he or she is the bottling winery. A system as flexible as an alternating proprietorship winery raises a number of practical questions. Many of these questions have to be answered on a case-bycase basis, but we will attempt to provide some answers to the obvious questions. Who is the host winery? The host winery is often an established producer who is willing to share their facility with others. If necessary, the facility could be enlarged to handle the alternators. In the case of a newly built facility, an existing winery that wishes to move to a new, better equipped facility could serve as the host. A cooperative can be formed to fill the role of the host winery or a group of growers and/or wineries could decide among themselves who would act as the host based on experience, willingness and energy. The host can be compensated for the extra work needed to act as the host. The host could also provide custom crush services to growers and/or wholesalers as an additional revenue stream. One of the basic decisions a group or co-op would need to decide whether they will provide custom crush services to others or simply operate for the benefit of the host and alternators. The following diagrams show these two options graphically: 14 Considerations about how the small producer credit interacts with winery ownership structures and operations are complex and are specific to each situation. For more information on the basic rules, see: Refesher Course on Wine Taxes available in the article library at These considerations become relevant if the initial threshold of 100,000 gallons would be reached in the foreseeable future. Winery Licensing Options for the Colorado Winegrape Growers -16-

18 AP Host Winery AP AP AP Grower Licensee AP Grower Licensee Host Winery AP AP Wholesaler licensee Custom Crush Clients Grower Licensee AP How is the host winery licensed? It can be licensed either as a manufacturer-winery or as a limited winery. We recommend the limited winery license if the host s production is less than 100,000 gallons annually since a limited winery has more privileges. How are the alternating proprietors or tenant wineries licensed? Again, they may be licensed as a manufacturer-winery or as a limited winery. We recommend the limited winery license if the alternator s production is less than 100,000 gallons annually since a limited winery has more privileges. Winery Licensing Options for the Colorado Winegrape Growers -17-

19 How do the alternating proprietors or tenant wineries compensate the host? The best practice is for the tenant wineries to pay the host rent for the space they occupy and pay for services as used according to a standard rate sheet. This is specified in the alternating proprietorship agreement entered into by the host and the tenant winery. Compensation of the host using a fee or charge for each case should be avoided since TTB has stated such arrangements indicate a custom crush arrangement, not a true alternating proprietor arrangement. 15 How do custom crush clients compensate the host or an alternating winery? Generally the wineries have a standard contract with a rate sheet for custom crush clients. There are a variety of ways to set the compensation, but a common method is to establish a charge based on the number of cases delivered to the custom crush clients. This charge would vary based on whether the custom crush client provided the grapes (as in the case of a grower licensee) or provided the bulk wine or had the winery source the grapes and make the wine. Who gets the federal label approval for wine made at an alternating proprietorship winery? It depends on which winery has the bottling line under their control when the wine is bottled. Since control of the bottling line can rotate and be under the bond of either the host or one of the alternators, it would depend on the method use to schedule of the bottling line. Since the bottling line can only rotate every 24 hours, it would depend on whether the volume of wine to be bottled will take an entire day or whether efficiencies dictate multiple wineries should bottle on the same day. In the later situation, the host would control the bottling line and the wine would be transferred to the host (in a bond-to-bond transfer) for bottling. If the host is bottling, it obtains the label approval. The only time this should not be done is when the wine is to be labeled as estate bottled or the production statement states the wine was grown, produced and bottled by (the name of the winery that grew the grapes). In these cases, the bottling line must be under the control of the winery which grew the grapes and fermented the wine and the label approval is obtained by that winery. 16 While the alternating proprietorship winery seems complex and there is a learning curve, the benefits are tremendous. The flexibility, the economies of scale, the shared overhead and the enhancement of quality of the wines have proven to be more valuable than the effort it takes to establish and operate an alternating proprietorship winery. The number of alternating proprietorship wineries in other states is increasing dramatically, proving that the benefits are worth the effort. 15 See TTB Industry Circular, , December 2003, available on TTB s website. 16 For more information on labeling, there are several articles on labeling available on CSA s article library at Winery Licensing Options for the Colorado Winegrape Growers -18-

20 While it may appear that the burgeoning Western Slope wine grape industry does not need it this minute, in reality it would be a wise choice to pursue now. It would have a synergistic and positive effect on the growth of wine production in your area and pave the way for expansion. Amending the Wine Wholesaler Law As noted early in this report, California permits its growers to become wholesalers with a limited retail license to make sales to consumers by mail, phone and internet orders. Many aspiring vintners have started out this way in California and have moved on to be an alternating winery or even a stand-alone winery. Consequently, the idea of giving wine wholesalers in Colorado additional privileges is not a replacement for the alternating proprietorship winery or even the grower s license discussed above. At present, Colorado wine wholesalers have no privilege to have a sales room where they can sell wine directly to consumers or offer tastes or wine by the glass. Nor can a wholesaler have an interest in a retail or manufacturer s license. These restrictions do not support using this license for wine brand builders. Colorado does permit its malt beverage wholesalers to have a sales room where they can sell malt beverages directly to the public. However, very few do so and it is not a popular feature of the Colorado law even among the beer wholesalers. While an attempt could be made to add a retail privilege to the wine wholesaler license provision, it would open the proverbial Pandora s box and would probably be opposed by the retail package stores and the wholesalers in the state. The other recommendations in this report are likely to have the support of (or at least the acquiescence of) the other tiers of the industry, but attempting to change the wholesaler license law would trigger great concern among the other tiers of the industry. For these reasons, we do not recommend this course of action. Other Ideas for Helping Grow Your Industry The Incubator Building or Winery Nursery One option to promote the growth of wineries that would not need any changes in Colorado law is to construct a facility or group of buildings designed to house several small wineries. These buildings include sloped floors with drains, high ceilings and roll up doors to facilitate tank movements, and other features to facilitate winemaking. This facility would likely be built where there was adequate infrastructure for such operations. Winery Licensing Options for the Colorado Winegrape Growers -19-

21 The Port of Walla Walla Washington used a state grant to build several buildings designed to hold several small winery operations. The facility was built specifically for wine production and offered low cost leases for a term of 6 years, at which point the winery would have to move to make room for the next incubator winery. We have attached an article on this program as Attachment F. This incubator building or buildings can provide space for small wineries to get started. Each winery would occupy its own premises and would be a separately licensed winery or limited winery. Each occupant of this facility would have to invest in their own equipment for their winery. Because all the premises are in adjoining spaces close to each other, there is the possibility of sharing equipment. It would be possible to have a commonly used crush pad and presses to be shared by all, so long as no fermentation step was involved and the juice or must had not yet started to ferment. Both TTB and the DOR may require that such a crush pad be part of one bonded and licensed premises and in that case, there could be a lose of the estate bottling claim. Then there are the inevitable scheduling issues during busy times. The other practical differences of such an incubator facility from an alternating proprietorship winery is that there is less overarching management of the facility or equipment and the lending or borrowing of equipment is on an ad hoc basis. Also it is unlikely that shared and experienced staff would be available to the tenants of the facility. It also provides significantly less flexibility for growth. Each winery is limited by the physical space it occupies and even if it were to take another nearby bay or premises, it may not be contiguous or it may be more space than is needed. In an alternating proprietorship winery there is greater flexibility to provide exactly the amount of space and services a growing winery needs without having to re-invest in the facilities and equipment repeatedly. The Equipment Cooperative As a way of reducing the start up costs for equipment, it has been suggested that a cooperative be formed to purchase equipment that could be shared by the members of the cooperative. Each member would have its own winery facility, but certain pieces of equipment would rotate between the members for use. A mobile bottling line would be an ideal piece of equipment for this type of cooperative venture. Smaller and portable equipment such pumps and filters could also be easily shared. However, when it comes to larger pieces of equipment such as de-stemmers and presses the idea is less practical. On top of the difficulty of moving large pieces of equipment, there are scheduling difficulties which are compounded by the time needed to transport, set up and break down the piece of equipment at each location. While this could be a stopgap measure to assist small wineries in the Winery Licensing Options for the Colorado Winegrape Growers -20-